Market Commentary: Hammered

Published September 3, 2019

A lot of burgers and hot dogs were flipped and chips crunched over Labor Day weekend as families and friends gathered to bid adieu to summer. Except for those in The Bahamas and along the southeastern U.S. coast hammered by Hurricane Dorian, routines are back to normal. We have returned to full workweeks, new semesters, neckties and nylons. White shoes and ice cream are out. Pools are closed, hockey rinks open. Menus have shifted overnight. Watermelon is out, root vegetables are in. A lot of leftovers get tossed in the transition, but many get tossed everyday anyway: roughly one-third of all the food produced on Earth is either wasted or lost between the farm and our compost pile. The United Nations Food and Agricultural Organization says this waste adds up to 1.3 billion metric tons a year lost to pests, machinery, choices made by chefs and supermarket managers, or decisions made by farmers to destroy rather than sell perfectly good produce to keep prices up. Between 43% and 58% of all waste in North America happens while we are cleaning our refrigerators or picking over the foods served at home or in restaurants. Researchers at Ohio State University tell us that we only finish about half of the meat we buy and less than 50% of our fruit, vegetables and dairy items; that adds up to an astonishing 650 pounds of food lost or wasted for every man, woman and child. When aggregated on a worldwide basis, the UN estimates that the social, environmental and economic cost is $2.5 trillion annually. The U.N. goal is to cut the planet-wide total in half by 2030, and that would mean changing our approach to the foods we grow, transport, present and consume.

Federal Reserve Bank officials are taking a look at key U.S. consumption data as part of their broad approach to monetary policy with its goals of maximizing employment, stabilizing prices and moderating long term interest rates. This all comes in the context of a slowing economy, market volatility, tariffs, and many crazy conditions overseas. The President has been quite public and vocal in his criticism of the Fed’s rate actions and non-actions — but he is by no means the first to try and sway or pressure the central bank. Many if not most U.S. presidents have used back channels to communicate their views and wishes, while others have used something more than a velvet hammer to obtain the desired results. The history of White House/Fed relations makes for fascinating reading. In 1965, Lyndon Johnson had advised Fed Chair William McChesney Martin through intermediaries to delay increasing the discount rate, but the advice was rejected. Johnson swiftly invited Martin to his Texas ranch and literally shoved Martin around the living room and accusing him of not caring about the “boys in Vietnam” and placing himself above the presidency. A few years after Richard Nixon’s 1968 win, he named his chief economic adviser, Arthur Burns, to succeed Chair Martin. The Nixon tapes are rich with conversations between Burns, Nixon, and White House officials; many historians believe that the president effectively got the Fed to support his 1972 reelection effort. In 1984 Jim Baker invited Fed Chair Paul Volcker to a meeting with President Reagan in the White House library, presumably because the conversation would not be recorded for posterity or move markets at that time. Volcker later wrote that he was stunned when he was told by Baker, “The President is ordering you not to raise interest rates before the election.”

The odds of the Fed raising rates before the 2020 election are slim to none. Futures traders, however, place the odds of a 25 basis point rate cut this month at 97%. Some analysts take a look at the strong economic data and question the need. Among the sectors that are and will be adversely affected by Fed cuts and low rates are banks. Bank stocks have taken a hit in recent weeks after the Fed cut the overnight lending rate for the first time in 11 years. Projected profit challenges in this era of negative rates have led to recent downgrades. Last week, Moody’s lowered its outlook for global investment banks. Raymond James downgraded Bank of America, the second largest U.S. bank by assets at $2.38 trillion. According to the Fed, the top four banks now account for 50% of all banking assets; JP Morgan Chase came out on top with $2.74 trillion and BoA was number two.

The mortgage-related bond market was last sized at $9.8 trillion, and corporate debt is not far behind at $9.3 trillion outstanding. U.S. Treasuries dominate the U.S. bond market with $15.9 trillion outstanding as of June 30 and another $113 billion of debt was sold at auction last week. The 7-year Note auction’s bid-to-cover ratio (the proportion of bids accepted to bids received for the $32 billion of debt on sale) at 2.16 was its lowest since 2009. However, demand for what is viewed as the world’s safest securities continues to buoy prices. During August, the 2-year Treasury yield dropped 37 basis points to 1.50%. The 10-year fell 52 basis points to 1.49% and the 30-year finished at 1.96% which was 56 basis points where it began the month. The spread between the 2-year and 10-year yields is only one basis point and so this part of the yield curve remains inverted. Same goes for another closely watched relationship which has been inverted for the greater part of nine months: the 3-month Treasury yield finished August at 1.97% while the 30-year Treasury bond yield ended at 1.96%.

The muni bond market with $3.6 trillion outstanding finished August with issuance at a 20-month high as borrowers moved to capitalize on this historically low rate environment. Lots of factors are in play. The impact of the 2017 tax reforms on investors in high-tax states has dramatically shifted fund flows. Equity funds have been hammered with $123.9 billion of year-to-date outflows while muni funds have experienced a record 34 weeks of inflows. On August 30 alone, Blackrock’s iShares California Muni Bond ETF took in $24.7 million, the most in the 12 years since the fund was launched. The 10-year AAA municipal general obligation bond yield finished the month at 1.21% and the 30-year yield shattered records at 1.83%. Taxable muni yields have also plummeted and present attractive opportunities. The 2-year MMD AAA taxable yield closed out the month at 1.63%, the 10-year at 2.12% and the 30-year at 2.72%. Last week, the Commonwealth of Massachusetts sold the largest deal on the calendar at $858.4 million and all the bonds were federally taxable; the structure included term maturities due in 2039 and 2043 priced at par to yield 2.663% and 2.813%, respectively.

HJ Sims was also in the market last week with a $73.3 million multi-tiered financing for Quality Senior Housing Foundation of East Texas. Bonds were issued through the New Hope Cultural Education Facilities Finance Corporation for the purpose of acquiring three senior living communities with a combined 380 independent, assisted living and memory care units in Athens, Longview, and Winnsboro, Texas to be operated by Civitas Senior Healthcare. The BBB rated series included two maturities in 2054 which we priced at 4.00% to yield 4.20% and 5.00% to yield 4.00%. The BBB rated taxable series featured 5.50% term bonds due in 2030 priced to yield 6.00%. The BB+ rated tax-exempt bonds due in 2054 had 5.00% bonds priced at a discount. And third tier BB rated bonds due in 2045 came with a coupon of 6.00% priced at a discount. Among other transactions on the $6.8 billion calendar, Darke County, Ohio issued $25 million of non-rated hospital facility revenue bonds for BB+ rated Wayne Healthcare including a 2049 maturity priced with a coupon of 5.00% to yield 3.07%. The South Carolina Jobs-Economic Development Authority sold $10.5 million of Baa3 rated revenue bonds for Lowcountry Leadership Charter School that had a 30-year maturity priced at 5.00% to yield 3.25%. The St. Louis Housing and Redevelopment Authority brought a $7.1 million BB+ rated financing for Twin Cities German Immersion School featuring a 2055 term bond priced at 5.00% to yield 3.64%.

As public safety and disaster relief efforts continue in the path and aftermath of Dorian, investors, insurers, and traders analyze the human and economic tolls. The work of Wall Street continues. During this holiday shortened week, we expect $40 billion of high grade corporate debt issuance including a 6 part offering for A2/A rated Walt Disney Co (DIS). The municipal calendar totals $7.6 billion of bonds and more than $1 billion of note sales. In the high yield muni sector, the Chicago Board of Education is bringing a $369.6 million BB rated deal, the Collegiate Charter School of Lowell has a $47.8 million non-rated financing, the Mississippi Business Finance Corporation plans a $19.1 million non-rated refunding for the King Edward mixed-use project, and the St. Paul Housing and Redevelopment Authority is scheduled to sell $7.1 million of BBB-minus rated charter school lease revenue bonds for Community of Peace Academy. The Treasury plans $87 billion of 3-month and 6-month bills this week and the economic data coming out of Washington will include manufacturing, construction spending, factory orders, motor vehicle sales, unemployment and average hourly earnings.

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